Buying Index Puts


Index XYZ is between 495 and 486 at expiration

Buy 1 XYZ 495 Put at $9

With index XYZ exactly at the strike price of $495 at expiration, the 495 put would be exactly at-the-money and have no value. With XYZ at the break-even point of 486 at expiration the put’s intrinsic value would be $9, or its initial cost. With XYZ closing between 495 and 486 at expiration, the 495 put will be in-the-money and have an intrinsic value of less than its initial cost. In this case the option could be sold to recoup some of its original purchase price resulting in a partial loss for the position.

For example, index XYZ closes at 490 at expiration. The put’s intrinsic value at this point would be:

   $495   put strike price
   -490   XYZ index level
      $5    intrinsic value

XYZ did decline in value, but not as much as anticipated. The option that cost $9 is now worth $5, so the investor can sell the put and recoup some of its initial purchase price. If the XYZ 495 put is sold for its intrinsic value of $5 then the loss for the position would be:

 $9.00   premium initially paid for put
-$5.00   premium received at put’s sale
 $4.00   loss

With XYZ at 490 at expiration, the in-the-money XYZ 495 put could also be exercised. The exercise settlement value would be the closing index level of 490. The cash settlement amount would be: 495 (put strike price) – $505 (settlement value) = $5. The loss would be the same as if the put were sold for intrinsic value at expiration:

 $9.00   premium initially paid for put
-$5.00   settlement received at put’s exercise
 $4.00   loss


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